College Savings Accounts
Paying for college can be a struggle. Nobody wants to repay student loans forever, not everybody is going to land a full-tuition scholarship, and federal student financial aid seldom takes care of all college costs. If you’re a parent or relative looking ahead to cover college costs for a child, finding scholarships is a great step now, but you may also want to consider college savings plans.
529 Savings Plans
While 529 plans are vulnerable to the whims of the stock market, they can still be a good idea, especially if you choose your plan carefully and have plenty of time to save. Many 529 plans allow you to move your savings into a much more conservative portfolio when the student nears college, an option they’re sure to publicize based on the recent behavior of the stock market. While there are limits on how many changes can be made to a 529 plan per year, the plans are otherwise quite flexible and varied, so it’s easy to find one that works for your situation. Plus, 529 plans can be taken out in the parent’s name, rather than the student’s, so they will only minimally affect a student’s financial aid eligibility.
Additionally, contribution limits are high, income limits are nonexistent, minimum contribution requirements tend to be low, and many states offer a variety of incentives for residents who contribute to their plans. As an added bonus, many 529 plans can accept contributions from anybody anywhere, not just the people named on the account, and several programs have been created to take advantage of this. For example, some plans allow a portion of credit card purchases or purchases at certain stores to go toward a student’s 529 plans.
Prepaid Tuition Savings Plans
If you’re hesitant about sticking money for college in the stock market with uncertain returns, another type of 529 plan is also popular in many states. Prepaid tuition plans allow families to contribute a fixed amount now in exchange for a certain portion of tuition being covered in the future. Several states do this for their state colleges and universities, and the Independent 529 plan, which is accepted by over 200 private colleges, also fixes contributions to portions of future tuition. Both of these varieties eliminate worries about tuition inflation, though if tuition holds steady or actually goes down between now and when the student starts college, a prepaid plan might not be the most lucrative option.
Coverdell Education Savings Accounts are similar to 529 plans in most respects, but do have their own benefits and drawbacks. Rather than being sold by a state, they are sold by banks and brokerages, which can charge their own management fees. Because there aren’t any state ties, there aren’t any residency limitations, though there also aren’t any state tax breaks for enrolling in a Coverdell ESA.
Coverdell accounts allow more flexible investment options and unlimited changes to investments. They can also be used to pay for high school and elementary school expenses, in addition to college costs. Otherwise, the expenses Coverdell and 529 plans can be used for are roughly the same: tuition and fees, books and supplies, room and board if over half-time, and other qualified educational expenses.
One major limitation to the Coverdell ESA is the $2,000 annual contribution cap. This is the limit per account holder, not per contributor. Additionally, individuals must have an adjusted gross income of $110,000 or below to contribute, and $95,000 or below to contribute the full $2,000. Coverdell accounts are held in the beneficiary’s name, so they can hurt the student on the FAFSA. They also must be used or cashed out by the time the beneficiary turns 30, and they go to the beneficiary no matter what, while 529 plans can be given back to the parent in charge of the account if the student chooses not to go to college.
The Roth IRA, typically used as a retirement account, can also be used to save for school. As long as you’re withdrawing contributions, rather than earnings, there is no penalty if you are using the money from your IRA for educational expenses. However, a college savings plan might be the better way to go if you’re setting up an account specifically for your student (especially since contributions to a Roth IRA must come from income the beneficiary earned from working), and dipping into your retirement funds to pay for college is widely regarded as a less than ideal choice by financial experts. But if you choose to take it, the option is there.
The Uniform Transfer to Minors Act allows assets to be given as gifts to minors without the establishment of a trust. While the options explored up to this point have been savings accounts or investments, UTMA covers everything, including property. An adult manages these assets in a custodial account until the owner reaches the age of 18 or 21, depending on the state. In the meantime, the funds in the account can be used to benefit the child, including taking care of educational expenses. Once the owner reaches the age of majority, the assets are theirs to use as they please. This can mean paying for school, or it can mean making less desirable financial choices. Since these assets belong to the student, they would count against them for student financial aid.